Beware of Offering Stock to Friends and Family

One of the most important parts of business is raising capital.  When raising capital, regulation by the Securities and Exchange Commission (SEC) or your state securities department may become involved.  Some might assume that business contributions by friends and family are not subject to securities laws. Offering friends and family stock or other ownership interest may lead to SEC and state securities’ law violations if not offered, structured, and reported correctly.

Capital invested in a business with the expectation of profits, without having any decision-making authority in the business, is considered a security.  All securities are subject to SEC and state regulation.  However, there are some limited scenarios in which securities are excluded from the definition of a security or exempt from public registration requirements which an attorney can help you take advantage of.

An alternative option to raising capital and avoiding state or SEC violations is to structure the contribution to not be a security.  If you are comfortable with giving up some decision-making authority in your business, this may be a viable option to avoid state or SEC regulation.  For example, if you have two friends willing to invest in your business, give those friends the right to participate in management and important decision-making functions of the business.  Then the transaction is likely no longer a sale of securities because the investors are able to participate in the management and control of the business.  As final note, always be aware of other non-SEC consequences of having family members invest and be involved in your business.

As you can see, securities laws can be complex and confusing and you should seek an attorney’s advice if you anticipate raising capital for your business. If you need assistance in forming a business or have questions about raising capital, contact O’Keeffe O’Brien Lyson Foss in Fargo, North Dakota to discuss your case or call 701-235-8000 or 877-235-8002.

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